Seigniorage - Econlib - American Focus

In my post from June 10 regarding the penny, I noted:

The U.S. government profits quite handsomely from seigniorage—pun intended. While the revenue from this practice has dwindled due to the rising prevalence of credit cards and cryptocurrencies, it’s still a significant sum.

The crown jewel of seigniorage is undoubtedly the $100 bill. The cost to the federal government for printing one is a mere 9.4 cents. Thus, when the government circulates this $100 bill, it rakes in a tidy profit of $99.90. Not too shabby! Even for a $1 bill, which costs 3.2 cents to print, the government nets 97 cents.

In the comments section, Rob Rawlings expressed his confusion:

I’m a bit puzzled by the notion of the government earning seigniorage through the act of printing new notes. Correct me if I’m wrong, but wouldn’t they earn seigniorage when they repurchase their own bonds using newly created electronic money instead of when they print fresh paper notes? When they print these new notes to satisfy an increased demand for cash over electronic money, the associated costs of printing seem like a legitimate expense.

I concurred that while printing costs are real, they are minuscule compared to the face value of a $100 or even a $1 bill.

Rob then elaborated:

If a newly printed note is exchanged with a bank for an equivalent amount of base money, then where is the “net seigniorage”? It seems that the seigniorage occurred previously when the government created new base money by buying back bonds.

In my response, I inadvertently overlooked Rob’s insightful second sentence. I believe he is correct. The essential takeaway is that seigniorage exists, and he accurately pinpointed its location.

I realize now that I may have erred by introducing the term “net seigniorage,” as highlighted by my monetary theory and policy expert, Jeff Hummel, who provided the following insight:

It seems we have a difference in definitions. If you wish to define net seigniorage in your particular way, that’s perfectly fine and sometimes informative. However, the conventional view of seigniorage is that it acts like a tax (a tax on real cash balances), similar to explicit taxes and government borrowing, which are the other two primary revenue-generating methods for governments. Both of these mechanisms incur collection costs that could theoretically be netted out. Regardless of whether a new dollar is created through a coin, bill, or electronically as non-interest-bearing bank reserves, the ultimate burden on the government’s subjects (through a future decline in real cash balances) remains a dollar.

I find myself largely in agreement with Jeff. However, I’d like to be a touch pedantic and note that the burden of a tax isn’t merely the revenue collected (except in the case of a lump-sum tax). It also includes the deadweight loss incurred from people economizing on their real cash balances.

Upon reflection, some readers might mistakenly interpret my comments as advocating for the federal government to churn out more $100 bills. I am not.

Rather, I am making a more nuanced observation. Let’s assume the Federal Reserve has established an optimal monetary policy—though definitions of “optimal” will vary widely among experts like Scott Sumner and John Taylor. For the sake of argument, let’s hypothesize that this optimal policy presupposes no additional demand for U.S. currency from overseas. In other words, it assumes that whatever U.S. currency is currently held abroad is sufficient and that no further demand will materialize.